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WASHINGTON—Invoking extraordinary powers granted after
the 1929 stock-market crash, the government seized
control of the insurance giant American International
Group (AIG) to preserve a crucial bulwark of the global
financial system.
The move
to lend the Wall Street giant up to $85 billion in
exchange for nearly 80 percent of its stock effectively
nationalizes one of the central institutions in the
crisis that has swept through markets this month.
The
government had sought to avoid federal intervention by
lining up private companies to rescue AIG. But the
effort failed when companies were unwilling to take on
the massive financial risk, forcing the government’s
hand.
AIG
found itself on the verge of bankruptcy because of
mounting losses from investments tied to subprime home
mortgages and also from the insurance it was providing
to others who invested in mortgages.
When
credit-rating agencies downgraded the company Monday,
AIG suddenly faced a crunch to come up with $14.5
billion to meet its commitments. If the company failed,
it could have set off cascading losses across the global
financial system.
“The
board determined that, in current circumstances, a
disorderly failure of AIG could add to already
significant levels of financial market fragility and
lead to substantially higher borrowing costs, reduced
household wealth and materially weaker economic
performance,” the Fed said in a statement.
“It’s
heavy, heavy, heavy. It’s much more than has been done
except Fannie and Freddie,” said Sen. Charles Schumer,
who heads the Joint Economic Committee, referring to the
mortgage finance giants Fannie Mae and Freddie Mac,
which were taken over by the government earlier this
month. “But when you look at the alternatives, none of
them are better.”
Since
years of loose mortgage lending caught up with the
housing markets, spurring a decline in home prices and a
wave of foreclosures, a contagion has spread through the
financial system, infecting investors who bet on the bad
debt. To contain the damage, the government has also
intervened to prop up Fannie Mae, Freddie Mac and the
investment bank Bear Stearns.
Treasury
officials appeared to draw a line over the weekend when
they allowed the Wall Street investment house Lehman
Brothers to fail, sending a signal that other firms
could not count on taxpayer help.
Government officials drew two distinctions between AIG’s
situation and that of Lehman. First, ever since the
demise of Bear Stearns in March, the government and
private firms had been drawing up contingency plans for
easing the collateral damage from a Lehman bankruptcy
filing. AIG’s failure was a surprise—the company first
went to the government for help Friday—and its sheer
size and complexity made it impossible to quickly
prepare for its collapse.
The
other difference is that AIG does business in ways that
get to Americans’ pocketbooks. Its short-term debt is
held by institutions all over the world, including
money-market mutual funds, and its overnight collapse
could have caused big losses in those funds, perhaps
even risking a run on them.
The
possibility of a Fed rescue helped lift the Dow Jones
industrial average more than 141 points Tuesday, to
close at 11,059, recovering part of Monday’s dizzying
504-point drop.
The Fed,
meanwhile, decided at a regularly scheduled policy
meeting against cutting interest rates further,
concluding that it was too soon to tell what effect the
recent turmoil on Wall Street was having on the broader
economy. The refusal to reduce rates was consistent with
the Fed’s belief that measures to improve the
functioning of the financial system—such as emergency
loans to investment banks—should remain separate from
actions that affect the overall economy.
AIG’s
stock, which fell 61 percent Monday, plunged 75 percent
more in early trading Tuesday but ended the day down 21
percent, or $1.01 a share, to close at $3.75 on trading
volume of more than 1.1 billion shares.
On
Monday Treasury Secretary Henry Paulson Jr.—who had
backed publicly funded bailouts of Bear Stearns, Fannie
Mae and Freddie Mac—said he was reluctant to continue to
use public funds to prop up individual firms. He left
open the possibility that taxpayer funds could still be
used broadly to “maintain the stability and orderliness
of our financial system.”
But the
clock ran out. At one point Tuesday, JPMorgan Chase and
Goldman Sachs agreed to consider arranging a $75-billion
loan to AIG that would be syndicated, or sold in pieces
to other parties, to help spread the risk. But the firms
walked away from that proposal after it became clear
they would not be able to raise such a large amount in
time, especially in such a troubled market, according to
a person familiar with the negotiations.
Paulson
and Fed chairman Ben Bernanke were on Capitol Hill
Tuesday night, briefing congressional leaders on the
government’s plans. The deal gives the government broad
powers to force the sale of assets, cancel dividend
payments to shareholders and replace the chief
executive. Former Allstate chief executive Edward Liddy
will succeed Robert Willumstad as AIG’s chief, according
to a person familiar with the decision. The sources
spoke on condition of anonymity because they were not
authorized to speak publicly.
The
company would be put up as collateral for the two-year
loan. AIG’s state-regulated insurance subsidiaries would
continue operating as normal in the immediate future,
though they may eventually be sold to pay the government
loan. The deal puts taxpayer money at risk for AIG’s
troubled investments. But because the government can
control the timing of asset sales, it may be able to
profit from its intervention by holding out for better
prices.
White
House spokesman Tony Fratto said the president supports
the deal. “These steps are taken in the interest of
promoting stability in financial markets and limiting
damage to the...economy,” Fratto said.
Some in
Congress also expressed initial support for the
intervention.
Rep.
Spencer Bachus, ranking Republican member of the House
Financial Services Committee, said: “I believe you put a
floor under the market with this. I do feel this is an
opportunity to start stabilizing the markets.” He added,
“I think we’ve got a shot at getting some finality to
this market.”
The Fed
is using the emergency authority it was granted during
the Great Depression. By law, the Fed can lend money to
any individual, partnership or corporation in unusual
and exigent circumstances, when the borrower cannot
access funds in other ways. The power had not been
exercised until March, when the Fed used it to rescue
Bear Stearns.
As
federal officials scrambled on a rescue plan Tuesday,
AIG officials stressed that individuals holding ordinary
insurance had little to worry about. In a statement, AIG
said its “life insurance, general insurance and
retirement services businesses, including its extensive
Asian operations, continue to operate normally and
remain adequately capitalized and fully capable of
meeting their obligations to policyholders.”
Sandy
Praeger, president of the National Association of
Insurance Commissioners, also issued a statement,
saying, “If you have a policy with an AIG insurance
company, they are solvent and have the capability to pay
claims.”
In a
sign of the tensions at AIG, former chief executive
Maurice “Hank” Greenberg—whose 11 percent ownership of
AIG has lost billions of dollars in recent weeks—sent a
scathing letter to Willumstad.
“Despite
repeated assurances from management and the company that
everything was under control, it is now clear that
nothing was under control,” he wrote. “Since you became
Chairman of AIG, you and the Board have presided over
the virtual destruction of shareholder value built up
over 35 years.” |
